Monday, 14 March 2016

Want an effective climate policy? Heed the evidence

Carbon taxes and caps may be most
effective in economic theory, but smart regulation will produce better climate
policy for our political reality.

Wisely,
Prime Minister Justin Trudeau resisted the temptation at the Paris climate
summit in December to double down on Stephen Harper’s 2030 target for Canadian
carbon dioxide (CO2) emissions. While future emissions promises are easily
made, effective climate policy is devilishly difficult. To have any chance,
Trudeau needs to stay wise — which starts by avoiding advice from technology
and policy advocates who themselves avoid inconvenient evidence from leading
climate policy research and real-world experience. What does this evidence tell
us?

For
one thing, it’s a mistake to expect a big contribution from energy efficiency.
For three decades, governments and utilities have made efficiency the focus of
their emissions reduction efforts, with negligible results. Yes, energy
efficiency is always improving, and we can slightly accelerate that trend. But
humans require energy for basic needs and, more important, we keep inventing
frivolous devices that use more. (Need evidence? Stroll through your local
big-box store.)

The
reality is that significant emissions reductions will happen only if we rapidly
switch to zero- and partially-zero-emissions technologies. Fortunately, these
are now commercially available. But they won’t be widely adopted unless
technologies that burn coal, oil and natural gas are phased out by regulations
or made costly to operate by carbon pricing. The latter can be either a carbon
tax, as in British Columbia, or the price of tradable CO2 permits under an
emissions cap, as in Quebec.

Most
important of all, Trudeau must understand that relying solely on one of these
two forms of carbon pricing to achieve even the seemingly modest Harper target
may cost him his job. While carbon pricing has become a mantra for economists,
environmentalists, academics, celebrities, media pundits and even corporate
heads, none of these people needs to get reelected. For politicians with
survival instincts, it’s a different game.

Canadian
politicians have been contemplating, but then delaying or watering down, carbon
pricing since 1989. I know, because in that year, as a newly minted energy
economist at Simon Fraser University, I helped with Canada’s initial assessment
of carbon pricing for Brian Mulroney’s government. As soon as we calculated the
required increase in the price of gasoline, he balked. And so has every
subsequent Canadian politician, with the partial exception of BC Premier Gordon
Campbell. In 2007, Campbell launched a tax of $10 per tonne of CO2, and he
legislated $5 annual increases for the next four years, with the tax reaching
$30 in 2012. My research group did the analysis for him. Campbell expected to
keep increasing the tax after 2012. But he was forced to step down in 2011, and
his replacement, Christy Clark, froze the tax. Stuck at $30, it adds 7 cents
per litre to the price of gasoline, which is a sixth of the increase likely
needed to motivate car and truck purchasers to choose electric or biofuel
options.

Today,
a decade later, no provincial politician intends to significantly surpass BC’s
$30 carbon price. Alberta says it will match it in 2018, followed by tiny
annual increases (assuming the government survives). Quebec’s carbon price is
$15 and is not slated to reach $30 for at least a decade. Ontario intends to
match Quebec. And in all of these carbon pricing systems, there are partial
exemptions for emissions-intensive, export-oriented industries, like the oil
sands.

Analysis
by my research group finds that in order to achieve the 2030 Harper target, if
oil sands are allowed to expand to the limit recently set by the Alberta
government, a Canada-wide carbon price starting at $30 in 2017 must jump $10
each year to reach $160 in 2030. In other words, significantly shifting to cars
and trucks that rely on renewable electricity, ethanol and biodiesel would
require raising gasoline prices by about 40 cents per litre (on top of other
taxes and all production costs), which is the result of having a carbon price
of $160. This is why, if he has survival instincts, Trudeau won’t depend solely
on carbon pricing. Instead, he will do what serious jurisdictions do: regulate.
And this is what we’ve done in Canada, although many fail to see it.

When
asked which climate policy in Canada reduced the most CO2 emissions over
the last decade, many people guess BC’s well-publicized carbon tax. They’re
wrong. It was Ontario’s ban on coal-fired power, which reduced annual emissions
by 25 megatonnes (MT). Surely, then, BC’s carbon tax must have caused the most
reductions in that province. Wrong again. The 2007 “clean electricity”
regulation forced BC Hydro to cancel two private coal plants and its own gas
plant. This cut BC’s projected annual emissions in 2020 by 12 to 18 MT. The
carbon tax is slated to reduce 2020 annual emissions by 3 to 5 MT.

It’s
the same in any jurisdiction that has significantly reduced emissions. Experts
show that the carbon pricing policy in California, which Quebec has now joined,
will have almost no effect by 2020. Ninety percent of that state’s current and
projected reductions are attributed to innovative, flexible regulations on
electricity, fuels, vehicles, buildings, appliances, equipment and land use.
Even Scandinavian countries, famous for two decades of carbon taxes, mostly
used regulations to reduce emissions. For example, the greatest
CO2 reductions in Sweden happened when publicly owned district heat
providers were forced to switch fuels.

Economists
will point out that regulations may have high “implicit” carbon prices. (This
is the carbon price that would be required to cause the same amount of
emissions reduction.) Indeed, I and other analysts have estimated an implicit
carbon price for Ontario’s coal phase-out of $100 to $130, for BC’s clean
electricity regulation of $80 to $120, and for California’s vehicle emissions
standard of over $100. But is this high implicit price a bad thing? If it is
politically impossible to raise “explicit” carbon prices to $160 to achieve our
Paris promise, then at least regulations can get to that price implicitly —
today. And Trudeau might get to keep his job.

Many
economists — who, I repeat, never face voters — argue that regulations are
economically inefficient compared with carbon pricing. This is true, especially
if the regulations are poorly designed. Too bad that so few of these economists
are willing to apply their intelligence and creativity to the design of
relatively efficient regulations that also overcome the huge blockade of
political acceptability. Fortunately, some have.

The
history of California’s vehicle emissions standard is illustrative. Since 1990,
that state has required vehicle manufacturers and retailers to achieve rising
market shares for zero-emissions vehicles (ZEVs) and partial-zero-emissions
vehicles (PZEVs). Thanks to the influence of some creative designers (perhaps
renegade economists), that policy does not pick technology winners and losers.
For the ZEV category, for example, it is agnostic (when it comes to
CO2 emissions) between pure electric, hydrogen fuel cell and pure biofuel.
So, as they compete with each other, auto manufacturers have strong incentives
to innovate technologies and better understand emerging consumer preferences.
And they quietly cross-subsidize to achieve their sales targets, charging
people who buy gas guzzlers a bit more per vehicle in order to reduce the sales
price of the higher-cost ZEVs, which they must sell to achieve their market
share targets. Conveniently, there is no cost to government. Nor is government
blamed for levying a high tax on gas guzzlers.

The
California PZEV-ZEV regulation also allows manufacturers to trade among
themselves in meeting sales targets, again reducing economic inefficiency. And
the regulation is flexibly applied in response to new information. In the early
2000s, manufacturers convinced regulators to increase the PZEV target in
compensation for delaying the ZEV mandate, the reason being that their
incredible success with developing hybrid vehicles like the Toyota Prius was
achieving the overall emissions objective, and they needed more time to develop
consumer-attractive electric and hydrogen options for ZEVs. Today, the ZEVs and
PZEVs are marching ahead, especially thanks to electric cars and plug-in hybrid
electric cars, the latter important for people who must use a car continuously
during the day for travel within or between cities. Thus, the market, not
regulators, is ultimately determining the relative contribution of each vehicle
category to total emissions reductions.

Another
concern about regulations is that the implicit carbon price will differ from
one sector of the economy to another, resulting again in economic inefficiency.
(Which conveniently ignores the same inconsistency in all real-world carbon
pricing schemes.) But government can adjust the stringency of regulations in
different sectors over time in order to align implicit carbon prices. What
makes regulating CO2 emissions so convenient is that a few sectors and
energy uses account for most emissions. Regulations on electricity generation,
furnaces in buildings, boilers in industry, oil and gas production processes,
and transportation propulsion systems, like the PZEV-ZEV program, can address
75 percent of Canada’s energy-related CO2 emissions.

This
brief description does not do justice to the creative potential for implicit
carbon pricing that is politically acceptable without a big cost in terms of
economic efficiency. But how can this help Trudeau, who seeks to develop a
national climate plan with the premiers in March?

To
start, Trudeau must recognize that the premiers are unlikely to agree to
nationwide, explicit carbon pricing (via tax or cap-and-trade) that comes close
to the level needed to achieve Canada’s Paris promise. (Remember, this is a
carbon price that climbs rapidly to $160 by 2030.) While he should encourage
the development of explicit provincial carbon pricing, he should immediately
develop an implicit carbon pricing strategy.

An
obvious starting point is road transport. He can do this by following in the
footsteps of — you’d never guess — Stephen Harper. Like previous prime
ministers, Harper continued the practice of aligning Canada’s vehicle
regulations with those in the US. The US vehicle regulations focus on fuel
economy and then tack on emissions criteria. Much better would be to take a
page from California by implementing emissions-focused regulations that
reinforce and accelerate that state’s effort to change vehicle propulsion
systems away from burning gasoline and diesel — regardless of energy efficiency
levels. This policy can apply to cars and trucks. In the latter case, biodiesel
is likely to play a larger role, although electricity and hydrogen cannot be
ruled out. Again, we now have the technological options — mostly thanks to
California’s earlier regulations — so we can let the market decide which of
these does best.

My
research group has estimated that a balanced and flexible PZEV-ZEV standard in
Canada that forced vehicle manufacturers and retailers to hit market share
targets of 10 percent of new sales by 2020 and 70 percent of new sales by 2030
would reduce annual emissions from this sector by 40 percent. The implicit
carbon price is difficult to estimate, because it depends on the future price
of oil. If the oil price stays low, the implicit carbon price of the standard
is $150. If the oil price rises to average $60 per barrel over the next 13
years, the implicit carbon price is under $100. (Switching away from
gasoline-fuelled cars is less costly when their fuel is more expensive.)

Another
obvious sector to target is electricity. Again, Trudeau can turn up the dial on
a soft Harper regulation so that, by 2030, all coal power plants must be closed
or retrofitted with carbon capture and storage, and natural gas plants would be
mostly restricted to backing up intermittent renewables like wind, solar and
run-of-river hydro. Because the impacts of the policy are not equal across the
country, Trudeau might have to provide some help to Alberta, Saskatchewan and
Nova Scotia, but it should not be much. Already Alberta and Nova Scotia have
been working on major transitions away from coal. Trudeau’s regulation needs to
make sure that the displaced coal is not all replaced with natural gas.

Non-auto
transport (buses, trucks, trains, ships), industrial boilers, building space
and water heating, and oil and gas are other obvious sectors and end uses for
which Trudeau can implement flexible, relatively efficient regulations. My
research group and I have found that modest carbon pricing by the provinces in
concert with a targeted portfolio of such federal regulations, which are
carefully monitored to approximately equate their implicit carbon prices, can
enable Canada to achieve the Paris target without harming trade-exposed
industries.

Although implementation of effective climate
policies will never be easy, there are politically palatable options that have
a proven track record of achieving reductions in Canada and abroad. Rather than
listen to those who ignore evidence, Trudeau should focus on developing
creative solutions in a second-best world. Yes, encourage emissions pricing.
But heed the evidence on the effective and relatively efficient role that
well-crafted regulations can play in driving the major technological and energy
transition we so desperately need.